How Forensic Accounting Works

Forensic accountants are more than just number crunchers who happen to work on criminal or civil disputes -- these accountants possess additional skills. They must conduct investigations, know how to use a variety of computer programs and communicate well. Some forensic accountants specialize in specific industries that are susceptible to fraud, such as insurance or banking, and learn the business practices associated with those fields.

Because the reputations of individuals and companies are at stake, forensic accountants must be very discreet when conducting their investigations. They must be independent and impartial, taking into account both the financial records and the conduct of employees. Unlike other accountants, when forensic accountants conduct audits, they are actively looking for signs of fraud. In addition to examining financial statements to determine whether they are accurate and complete, they may seek out internal databases and court records. Because people committing fraud have hidden the evidence of their crimes, forensic accountants must look beyond the numbers and anticipate criminal actions.

Regardless of whether their assignments are criminal or civil, these accountants follow the same forensic accounting basics when conducting their investigations.

First, they meet with a government representative, attorney or other client to learn the specifics of the alleged fraud. Then, they begin their initial research and plan the logistics of the investigation. The next step is to search the records -- bank statements, credit statements, journals, ledgers, databases, e-mails and memos -- anything that will offer a bigger picture of the financial situation.

After gathering the records, forensic accountants often conduct interviews with the accused and other involved parties to get individual stories about the irregularities. Forensic accountants must possess observational skills to pick up subtle hints or suspicious clues that may eventually lead them to the perpetrator. Clues may include new cars, numerous vacations and starting additional businesses without other visible sources of capital.

How far will forensic accountants go to obtain information? It all depends on the nature of the case. In criminal cases, they usually work with law enforcement and the district attorney's office. Just as with other types of evidence, the prosecution must obtain search warrants and subpoenas to locate financial information and compel knowledgeable people to give interviews about the situation in question. If the case is civil, they're empowered by the client, who is usually a part of the company being investigated or holds agreements that permit accounting investigations.

After gathering all of the information, a forensic accountant begins the analysis. He or she may trace the assets of the company, calculate the total loss and exactly how it occurred, and summarize various transactions. The final step (unless the accountant is also testifying in court) is to prepare a report detailing the plan of action and what the investigation uncovered. This may include graphs, charts, spreadsheets and other methods of explaining the case.

In addition to investigating, forensic accountants may provide litigation support. Attorneys engage the services of forensic accountants to review existing documentation and testimony and explain their financial significance. A forensic accountant can tell the attorney what additional information may be needed to prove the case and what questions to ask of witnesses. The forensic accountant may also review damage reports and state whether the report was put together accurately and supports the case.

Now that we've established what forensic accountants do, let's look at the specific types of assignments that they may investigate.

Although the basic strategy is the same, the types of assignments that require the services of a forensic accountant vary. An independent consultant may assist the owner of a small company who suspects his bookkeeper of embezzling funds; or an accountant working for the government may attempt to prove that a corporation has been laundering profits. It can be difficult to find case studies of forensic accounting at work because most companies don't publicize details of financial misconduct. In this section, we'll look at some notable examples of forensic accounting in action.

In 1996, a city manager in California's Contra Costa County became suspicious when a local disposal service company asked for help keeping itself afloat. Orinda-Moraga Disposal Services wanted to raise rates on its customers and needed the Contra Costa Sanitation District's approval. However, the company had recently stated its desire to lower rates. The wary city manager hired forensic accountant Dan Ray to uncover the truth.

After examining Orinda-Moraga's records, Ray discovered that the company sent checks to nonexistent people at several companies that had fake addresses. The disposal company's owner deposited the checks into an account. He had created these companies to illegally siphon money from Orinda-Moraga, and inflated its business costs to justify the rate increase. Ultimately, Orinda-Moraga's owner and his partner were found guilty in civil and criminal suits.

Forensic accountants are also retained to assist in uncovering potentially hidden assets during divorce proceedings. The recent high-profile divorce of Sir Paul McCartney and Heather Mills included a dispute over how much McCartney was actually worth. He claimed to be worth about $785 million (400 million pounds), but Mills said that McCartney was worth about $1.6 billion (800 million pounds). She retained a team of forensic accountants to delve into his assets. Mills hoped that if accountants proved that she was correct, the divorce ruling would be overturned and she could receive a larger settlement. As of June 2008, the initial ruling hadn't been overturned.

Enron and other companies brought some aspects of forensic accounting to prominence in recent years (read How Cooking the Books Works to learn more about those cases). In 1997, Sunbeam, a company that manufactures small appliances, followed a practice called bill and hold. This is when a company records sales of its products as profits for the current quarter, while waiting to deliver the product (typically they wouldn't be recorded as sales until they were actually shipped). Sunbeam sold huge amounts of its products to other companies at a discount, but kept the items in warehouses. On paper, the company appeared to have had high sales; however, Sunbeam's warehouses were full of unsold product. This practice was uncovered by a financial analyst at investment firm Paine Webber, who downgraded the value of Sunbeam's stock.

Bill and hold isn't illegal, but Sunbeam's shareholders felt deceived and filed lawsuits. Sunbeam's accounting firm, Arthur Andersen (later ruined by its involvement with Enron), performed an audit and reported that Sunbeam's books were accurate and in accordance with federal guidelines. However, the board was unsatisfied and hired Deloitte & Touche to review Arthur Andersen's audit. This follow-up uncovered proof that the numbers had been manipulated. The Securities and Exchange Commission investigated Sunbeam, and its CEO, Alfred Dunlap, was fired and forced to pay millions of dollars to settle investment lawsuits. He paid $500,000 in fines and was banned from serving as an officer in a public company.

So how do you become a forensic accountant? Do you simply declare your intention to investigate fraud instead of being a "regular" accountant? We'll examine the path to forensic accounting next.

Forensic accounting can be a very lucrative and enjoyable career with a wide variety of potential employers. Forensic accountants -- like all accountants -- must have a thorough knowledge of Generally Accepted Accounting Principles (GAAP), business practices and applicable laws. In the United States, most forensic accountants have at least a bachelor's degree in accounting, with a few years of experience within that field.

The next step in becoming a forensic accountant is passing the Uniform Certified Public Accountant Examination to become a Certified Public Accountant (CPA). This exam was created by the American Institute of Certified Public Accountants, which is a condition of employment by many firms, in addition to meeting other state and federal eligibility requirements. Continuing education is a requirement of maintaining the status of CPA, and many aspiring forensic accountants attend graduate school to fulfill this requirement, as well as gain more knowledge in the field and become more marketable. Many universities offer master's degrees in forensic accounting or in business administration with a concentration in forensic accounting.

Some forensic accountants take courses in:

There are several organizations that provide training and additional certification for forensic accountants. The American College of Forensic Examiners International (ACFEI) began offering a designation of Certified Forensic Accountant (Cr.FA) in 2001. There is also the Association of Certified Fraud Examiners (ACFE), which offers a designation of Certified Fraud Examiner (CFE), and the Association of Certified Fraud Specialists (ACFS), which has a designation of Certified Fraud Specialist (CFS). Each organization requires that its members possess varying degrees of education and experience, and they must sit for additional exams. These certifications show that a forensic accountant has training and experience beyond that of a standard accountant.

For more information about forensic accounting and related topics, check out the links on the next page.